After getting extremely overbought during the last week the market gave some back today. The way in which it did it was not unusual. Many times after an extended run-up the market will close strong and then gap down the next morning. This serves to trap all the Johnny-Come-Lately’s. It also serves as a reminder that the more stretched the market gets, the less aggressive traders should be with establishing new positions.

One big positive about the market lately is the improvement in breadth numbers. New highs have expanded rapidly the last two weeks and small and mid-cap stocks have begun to play catch-up. Breakout opportunities have become more prevalent and some of them have worked quite well. So what does today’s negative action mean? So far…nothing. So far. The market was overdue for a pullback. It got it. Now let’s wait and watch a few things. How deep will the pullback be? Will volume increase or decrease on further selling? What will breadth (advance/decline and new high/new low) figures reveal?

As strong as it has been, and even with the recently improved breadth, the market still has its problems. The rally seems to have been at least partially predicated on the fact that a Goldilocks scenario is playing out with regards to the economy. Growth is slowing slightly which is helping to bring down oil prices and slow inflation. Therefore the Fed will not need to increase rates any further. In fact, once inflation is no longer a worry, they may even need to cut rates to help ramp up growth again. The soft-landing will then leading to a booming stock market and everybody will be happy and buy each other Coca-cola’s. I’m still not convinced this is realistic. And even if it does play out almost perfectly, there should be a scare somewhere along the way. Buying into that scare may be a better entry than the current euphoria.

So where does this all leave us? Well, the market is still strong. Today (so far) wasn’t great, but it wasn’t a disaster either. I think it will be important to remain nimble in the coming days and weeks. It’s rare a market tops out on a dime (bottoms are a different story). So if yesterday’s high is going to be significant, I would expect we would see a test and failure of it before a significant selloff develops. Note the things I mentioned above (depth, breadth, volume) during this selloff and the subsequent bounce. They should provide important clues as to whether we continue higher or roll over.

Best of luck with your trading,

Rob
RobHanna@Comcast.net

Rob Hanna is the principal of a money management firm located in Massachusetts. He has spent the last several years developing and refining methods for trading in stocks across multiple time frames. He selects stocks using both fundamental and technical criteria, and then trades them using technical analysis techniques.